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the only way the operator can make some pro t at these prices Also, the bottom-up nature of the model makes such costs a natural candidate to be used as inputs The use of LRICC has also disadvantages Traditional accounting systems do not provide any information that can be used by an LRICC model, and hence such models must be built from scratch Also, prices based on LRICC are hard to audit as we have discussed earlier This motivated the recent development of LRICC systems based on top-down models using current costs (see the discussion in Section 734) There is another fairness perspective on the use of LRICC Consider an incumbent local exchange carrier (ILEC) who is forced to unbundle part of his network, eg the part that accesses his customers The concepts of ILECs and unbundling are discussed in more detail in Section 13.

3 and Section 1341 Unbundling requires the incumbent to sell the services of the access network in a standalone manner, instead of selling them in combination with other services (such as local and long distance telephony) Examples of such services are the physical layer consisting of the copper wires that form the local loop between the premises of the customers and the local exchange of the carrier, and the raw bandwidth that can be provided by xDSL modems operating over the copper local loop wires The price of the unbundled access service makes a big difference to competition from other providers If it is very high, then competitors will prefer to build their own access network, which is very costly and risky.

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When customers realize that the relationship was intended to be short term and that the company never intended to reciprocate, they begin to migrate This migration comes in steps, which signal plans to defect As the company eventually understands the signals, it vainly rushes in with defection-prevention programs Now it is again facing high investment with minimal commitment from the customer At this stage, customers are frustrated, disappointed, and less likely to buy into any promotion or offer Even if they do, it will come at a high cost to the company, because the firm will have to forgo its margins to buy the customer back with heavy discounting As Exhibit 32 illustrates, the efficient relationship is not a reality but rather a paradox Companies want to believe in its feasibility, but in fact only frustrate their customers in the process and lose money while at it.

If the price is low, then there will be erce competition in providing higher level services over the access network, but the incumbent will have no incentive to upgrade the access network or improve its quality, and other operators will have no incentive to build access networks using alternative new technology How should such prices be de ned Regulators have proposed the use of LRICC (see discussion on historic vs current costs in Section 732) But is this fair to the incumbent operator If the incumbent is required to rent elements of the access network to his competitors then he will be unable to use these elements to provide the services he presently sells to his customers (which he is probably doing at a high pro t) Thus, unbundling has an opportunity cost for the incumbent.

LRICC penalize the incumbent for inef ciencies, but does not take account of his historic costs, or this opportunity cost To be fair, should not the price include this opportunity cost In the next section we describe a pricing scheme that has been proposed as an alternative to LRICC , and which does take account of the incumbent s opportunity cost This is known as the Ef cient Component Pricing Rule (ECPR) for network elements As we will see, such a pricing scheme has serious inef ciencies compared to LRICC 736 The Ef cient Component Pricing Rule The Ef cient Component Pricing Rule (ECPR) is an alternative to LRICC that does take account of the incumbent s opportunity cost Unfortunately, ECPR has severe incentive problems and must be used with care.

This is the essence of the efficient relationship paradox syndrome Companies believe they can have a relationship that is efficient and still commands.

This section should be seen as a case-study that demonstrates that a pricing rule that looks plausible at the rst sight may be very inadequate in particular situations Consider a service AB offered by an incumbent by means of two network elements, A and B, as shown in Figure 75 New entrants in the above market possess only element B and so require element A in order to provide service AB From their viewpoint, element A is the bottleneck to providing service AB For example, A might be the local-loop part of a telephone connection and B.

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